Rebalancing the Global Rebalancing the Global Economy for Long-Term Economy for Long-Term

Growth: What does it mean for Growth: What does it mean for Coordinated PoliciesCoordinated Policies

Edward K Y Chen, Edward K Y Chen, ekychen@hku.hkekychen@hku.hk

University of Hong KongUniversity of Hong Kong

Beijing Workshop, September 2010Beijing Workshop, September 2010

Imbalance of the Global Imbalance of the Global EconomyEconomy

1.1. Imbalance – Significant and persistent Imbalance – Significant and persistent current account deficits/surpluses of some current account deficits/surpluses of some countries. Not new, Britain, USA, Germany countries. Not new, Britain, USA, Germany and Japan were surplus countries. Current and Japan were surplus countries. Current global imbalance (China, Japan, Germany global imbalance (China, Japan, Germany vis-à-vis USA, UK) since late 1990s.vis-à-vis USA, UK) since late 1990s.

2.2. Impact – global short-term growth possible Impact – global short-term growth possible but not sustainable in the long-run; also but not sustainable in the long-run; also distortion of resources allocation; need for distortion of resources allocation; need for rebalancing.rebalancing.

3.3. Imbalance did not (at least not directly) Imbalance did not (at least not directly) lead to financial crisis which is more lead to financial crisis which is more related to financial deregulation, over-related to financial deregulation, over-innovations, quantitative easing, etc. innovations, quantitative easing, etc. Financial Crisis is a blessing in disguise, Financial Crisis is a blessing in disguise, current account imbalances reduced current account imbalances reduced during 2008-2009.during 2008-2009.

4.4. Current global imbalance is more related Current global imbalance is more related to the US Dollar standard/system (or a no-to the US Dollar standard/system (or a no-system) since 1971, and the structural system) since 1971, and the structural factors of saving, investment, industrial factors of saving, investment, industrial development and productivity growth in development and productivity growth in deficit countries.deficit countries.

The Need for Coordinated The Need for Coordinated PoliciesPolicies

1.1. Market-induced adjustments, even if Market-induced adjustments, even if possible, can be painful and brutal, possible, can be painful and brutal, taking time and accompanied by taking time and accompanied by deflation and depression.deflation and depression.

2.2. Market-induced adjustments might not Market-induced adjustments might not be possible because there is currently no be possible because there is currently no self-correcting mechanism (exchange self-correcting mechanism (exchange rate adjustments, international reserve rate adjustments, international reserve system) in place. Non-market forces in system) in place. Non-market forces in operation – trade and investment operation – trade and investment protection, labour mobility restrictions. protection, labour mobility restrictions. Policy-induced adjustments needed.Policy-induced adjustments needed.

3.3. Coordinated policies needed because both Coordinated policies needed because both globalization and regionalization have globalization and regionalization have taken place; the degree of inter-taken place; the degree of inter-dependence among nations is high in trade, dependence among nations is high in trade, investment, financial development.investment, financial development.

4. USA and China have to take bilateral 4. USA and China have to take bilateral actions for rebalancing; US-China actions for rebalancing; US-China rebalancing affects other countries (cross-rebalancing affects other countries (cross-region and intra-region) and coordinated region and intra-region) and coordinated efforts are needed for ‘rebalancing with efforts are needed for ‘rebalancing with growth’, an IMF proposition.growth’, an IMF proposition.

Macroeconomic and Macroeconomic and Structural PoliciesStructural Policies

Rebalancing coordinated policies should Rebalancing coordinated policies should pay attention to:pay attention to:

Bilateral versus multilateral imbalancesBilateral versus multilateral imbalances Tradables versus non-tradablesTradables versus non-tradables Supply (structural) versus Supply (structural) versus

macroeconomic policies; micro versus macroeconomic policies; micro versus macro aspectsmacro aspects

Commercial policies – trade protection Commercial policies – trade protection (goods and services) versus investment (goods and services) versus investment protection protection

1. Exchange Rate Adjustments1. Exchange Rate Adjustments

The importance of exchange rate adjustments The importance of exchange rate adjustments for rebalancing has been grossly for rebalancing has been grossly exaggerated. The crux of imbalance is exaggerated. The crux of imbalance is saving and investment (macro) which are not saving and investment (macro) which are not directly related to exchange rate adjustments directly related to exchange rate adjustments on the basis of elasticities (micro). Exchange on the basis of elasticities (micro). Exchange rate deals with tradables only; services play rate deals with tradables only; services play an important role in rebalancing. Also an important role in rebalancing. Also exchange rate has no effect on imbalance exchange rate has no effect on imbalance arising from commercial polices.arising from commercial polices.

Any exchange rate adjustment should also be Any exchange rate adjustment should also be coordinated coordinated

2. Consumption/Investment 2. Consumption/Investment Stimulation in Surplus Stimulation in Surplus

CountriesCountriesDemand and Supply Factors:Demand and Supply Factors:To increase consumption: fiscal policy; To increase consumption: fiscal policy;

quantitative easing; consumer credit system; quantitative easing; consumer credit system; service sector promotion and deregulation; service sector promotion and deregulation; liberalization in trade in services; industry liberalization in trade in services; industry policy for competition, efficiency and product policy for competition, efficiency and product diversification for the domestic market.diversification for the domestic market.

To reduce saving: financial development to To reduce saving: financial development to promote private investment; social security promote private investment; social security system, public investment in education, system, public investment in education, medical care to reduce precautionary saving; medical care to reduce precautionary saving; ownership structure change to increase ownership structure change to increase corporate saving.corporate saving.

3. Encouraging Private Saving 3. Encouraging Private Saving in Deficit Countriesin Deficit Countries

1.1. Tax policies to provide incentives for Tax policies to provide incentives for savings (capital gains, interest savings (capital gains, interest withholding, etc)withholding, etc)

2.2. Financial sector reforms to reduce Financial sector reforms to reduce transaction costs, to increase transaction costs, to increase investor confidence and protectioninvestor confidence and protection

3.3. Privatization of education, medical Privatization of education, medical care, housing, etc to increase care, housing, etc to increase incentives for precautionary savingsincentives for precautionary savings

4. Export-led Growth in Deficit 4. Export-led Growth in Deficit CountriesCountries

1. Coordinated exchange rate policy; 1. Coordinated exchange rate policy; spending released by reduced imports be spending released by reduced imports be directed to non-tradables; change of directed to non-tradables; change of domestic relative prices makes service domestic relative prices makes service sector promotion and reform necessary.sector promotion and reform necessary.

2. Supply-side policies – industry policy to 2. Supply-side policies – industry policy to enhance competition, productivity and enhance competition, productivity and efficiency; liberalization of FDI inflows efficiency; liberalization of FDI inflows (notably, unwarranted USA investment (notably, unwarranted USA investment protection); ensuring policy changes not protection); ensuring policy changes not hijacked by special interests.hijacked by special interests.

5. An International Financial 5. An International Financial SystemSystem

No-system after the breakdown of the Bretton No-system after the breakdown of the Bretton Woods in 1971. IMF outdated?Woods in 1971. IMF outdated?

US Dollar Standard as a de facto system.US Dollar Standard as a de facto system.No coordinated exchange rate regimes (some No coordinated exchange rate regimes (some

fixed, some floating, some mixed) for self-fixed, some floating, some mixed) for self-correction of imbalancescorrection of imbalances

In search of global governance for a new In search of global governance for a new international financial architecture: G8, G-20, international financial architecture: G8, G-20, IMF-22 ?IMF-22 ?

In search of am international reserve (revamped In search of am international reserve (revamped SDR?) system and a process (a system/regime SDR?) system and a process (a system/regime unlikely) for coordinated exchange rate policesunlikely) for coordinated exchange rate polices

THANK YOUTHANK YOU